Watch stocks you care about

Rite-Aid (NYSE: RAD) has taken investors on quite a ride this year. Shares in the retail pharmacy chain have surged as the company has returned to profitability. But Rite-Aid's downbeat guidance is dinging investor euphoria. So with shares down big, here's what investors need to know about Rite-Aid's cautious outlook.

Challenging forecast

Rite-Aid remains the smaller sibling to giants CVS (NYSE: CVS) and Walgreens (NASDAQ: WBA) . Those two companies combine to account for more than a third of all pharmacy scripts filled in the United States. But Rite Aid has been finding its footing in holding -- and in some cases building -- market share. A successful rewards program has buttressed front-end foot traffic. And expanding into additional vaccinations has attracted more customers.

Yet despite those positives, the company cut its full year sales forecast to between $25.3 billion to $25.42 billion and reduced its fiscal 2014 earnings per share guidance to $0.17 to $0.23 from $0.18 to $0.27.

That news sent shares down 10%, but before you get too excited, it helps to remember that short term news can sometimes give long term investors opportunities to buy companies on sale.

Returning to profitability

And that may be the case with Rite-Aid given net income in the third quarter climbed to $71.5 million from $61.9 million a year ago, representing the fifth consecutive quarter of profitability.

Supporting the bottom line growth was a 2.3% lift in same store sales, driven by a 3.5% jump in pharmacy sales. That trailed CVS Q3 same store growth of 3.6%, which was tied to a 5.8% same store lift in CVS's pharmacy sales. However, Rite-Aid's results were still solid, particularly given Rite-Aid's front end sales slid 0.2% while CVS's fell 1%.

Better pharmacy results came thanks to higher prices and more scripts filled, both important given they're being compared to last fall when results were buoyed by business won during Walgreens battle with Express Scripts last year.

It's not as bleak as some may think

Rite-Aid has been remodeling its best performing stores and these stores have been significantly outperforming other locations. Front end and pharmacy sales at stores with the new footprint were 3.2% and 1.4% better than at the un-renovated locations.

That suggests converting more stores to the new Wellness platform, and jettisoning more poor performing locations, could offer additional margin tailwinds.

And while brand drugs caught a bit of a breather this year in terms of patent expiration, generic competition is set to reaccelerate in 2014 and 2015. That suggests more margin-friendly new generics hitting stores shelves over the next two years.

It's not all roses and butterflies

Rite-Aid remains risky. It's made a big move this year and despite cutting its debt level, it remains highly leveraged with a debt to EBITDA ratio of 4.5 times. And while competitors CVS and Walgreens have diversified their business to include physician services and drug wholesale operations, Rite-Aid hasn't.

However, while leverage is high it is falling. And while profit may be slimmer next year than some may have thought, the company will remain profitable, generating an expected $250 million to $300 million in free cash next year.

That suggests investors who have missed out on Rite-Aid's recovery may want to take another look at the company, because its guidance appears to offer wiggle room for upside next year.

This Top Stock for 2014

The market stormed out to huge gains across 2013, leaving investors on the sidelines burned. However, opportunistic investors can still find huge winners. The Motley Fool's chief investment officer has just hand-picked one such opportunity in our new report: "The Motley Fool's Top Stock for 2014." To find out which stock it is and read our in-depth report, simply click here. It's free!

Todd Campbell has no position in any stocks mentioned. Todd owns E.B. Capital Markets, LLC. E.B. Capital's clients may or may not have positions in the companies mentioned. Todd also owns Gundalow Advisor's, LLC. Gundalow's clients do not have positions in the companies mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

Comments from our Foolish Readers

Help us keep this a respectfully Foolish area! This is a place for our readers to discuss, debate, and learn more about the Foolish investing topic you read about above. Help us keep it clean and safe. If you believe a comment is abusive or otherwise violates our Fool's Rules, please report it via the Report this Comment icon found on every comment.

By asking anyone to buy RAD would b the same as asking them to run into a burning building.

I agree the lowering of guidance say it all.

I'm not sure why anyone that's been investing in the market would say RAD is a buy it's a sell. Several reasons. Number one look at the chart. After earning the widow of insider selling opens up. Most brokers have great returns in RAD and most will lock in profits and sell. These logical fact normally school the novice emotional beginner investor trader. Follow the pro's sit on the side lines til January re iteration of all 13 analyst ratings normally put out. Most of RAD analyst are sitting with a strong buy rating now that we have clarity from RAD conference call IMHO lower guidance all analyst will lower there guidance to hold which means sell.

Consider the items that are selling out the component makers game console are sold out Mac pro sold out bit coin lite coin sold out mining chips all have AMD chips in there parts.

Sending report...

Todd has been helping buy side portfolio managers as an independent researcher for over a decade. In 2003, Todd founded E.B. Capital Markets, LLC, a research firm providing action oriented ideas to professional investors. Todd has provided insight to a variety of publications, including SmartMoney, Barron's, and CNN/fn.
Follow @ebcapital